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The funding solution
Thursday 09 June 2011 by Viv Williams
Sound financial management has become a key issue for law firms as for the first time banks are closely scrutinising lending to these legal companies and implementing new credit policies.
It is worth looking at how law firms can effectively demonstrate their financial acumen in a bid to secure bank funding.
In order to demonstrate to a bank that your firm can meet its credit policy criteria there are a few basic principles to consider.
First, it is vital that the partners of the legal practice understand how the business stands financially.
At least one of the partners (with or without the assistance of a practice or financial manager) has to know and understand how the business is performing financially on a day-to-day basis so the business can respond effectively and quickly.
That individual should also have the knowledge and be given the time and support to undertake what is effectively one of the most important roles within the firm.
Secondly, there are a number of questions and considerations of which partners should take note in order to prepare adequate information for their lenders.
For example, do the partners know if the firm is profitable?
What is the current position before and after drawings - and do they recognise the difference between profit and cash in the bank? How does this compare to the previous three years’ trading?
If there has been a decline or an upturn, what is the reason?
Is each department and fee-earner profitable and has a profitability analysis been undertaken for each department and fee-earner within the firm?
We have reached a significant crossroads and law firms have to decide strategically what type of firm they will be in the future.
If the decision is to offer regulated legal services clients will pay a premium for the attention and knowledge your firm will demonstrate.
However, if you choose to deliver commoditised services then your choice is either to adapt a software/web-based solution or employ less qualified (and more affordable) staff to deliver these fixed price services.
Can the firm's existing practice management system produce the information which the bank may require?
Does it have the facility to undertake a year-on-year comparison without having to refer to year end printouts?
Who within the firm actually knows what information can be extracted from the system - and how?
It is essential that you give yourself sufficient time to undertake a realistic review of your budgets and targets and identify if you have the 'right people in the right seats'.
To obtain buy-in from your staff it is essential to deliver your budgets and costs-delivered targets to all personnel in time for the new financial year.
Once you have ascertained that your WIP (work in progress) is billable then it is essential that you turn those bills into cash.
For many firms, the credit control function has not been considered a priority in the past.
Here are some key questions to answer when establishing a credit control policy:
- Who is responsible for and undertakes day-to-day management of the firm's credit control process?
- Do you have a written credit control policy that has been given to every member of your staff?
- Is your credit control process automated and linked to your accounts software?
- What is the split between 30, 60, 90 and 120+ day debtors/disbursements?
- How much has been written off so far this year and have any further potential bad debts been identified? Who has authority to write off bills and have the reasons been recorded for HMRC purposes?
It is equally important to manage your fellow partners’ expectations as well as that of the bank and this can be done by producing regular management accounts in-house on a monthly basis.
Understand the information in the reports and if your accountants prepare them, ensure they are discussed openly with all partners.
Do your management accounts include a work in progress valuation?
If not, this will distort the profit/loss figure.
It is recommended that you review actual versus budget figures at least quarterly and record any required amendments.
Looking to the future
Despite the stringent lending criteria currently being applied, law firms will long be an attractive sector for some of the banks.
For example, LloydsTSB is going to great lengths to improve its service with specialist units being established to cater specifically for the legal profession which have an understanding of the problems being encountered.
In addition, many bank managers now have a Lexcel qualification and a better understanding of the regulatory and compliance issues facing solicitors.
Layering the practice's finances is an option which has largely been ignored by a legal profession used to the luxury of increasing overdrafts on demand.
This situation is rapidly changing and specialist lenders such as Key Business Finance, now part of Wesleyan, can assist in the layering of these finance options.
Although some key disbursement funding players have disappeared there will be new entrants into the sector and it is likely that more law firms will consider employing alternative funding rather than their overdraft.
Whichever the chosen lending route, having excellent management information available will not only help to manage partners' expectations but also those of your bank/lender and help towards a long and successful relationship going forward.
Viv Williams is Chief Executive of 360 Legal Group
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